Payday loans: what gives?

by Raphael Bostic

During a recent advisory board meeting for Self-Help/Center for Responsible Lending California, we had a lively discussion about where to draw the line determining what products should be allowed or disallowed. The product in question: payday loans.

Now let me be clear about one thing off the bat: a payday loan is a very expensive product that doesn’t make sense for most people, including the majority of the people who use them regularly. Payday loans often leave their users in a more precarious financial position than they were in before taking the loan. This is not good. Indeed, some advocates I have talked with have said that using a loan shark would be better than taking out a payday loan.

But people are choosing to use them. And some choose them even after being pitched to use a product with less pernicious features. They remain popular.

So what gives? One answer is that payday loans must be filling a need. Banks don’t offer products that compete with them, and impaired credit can make this the only resort for some. But another answer is that some use payday loans so they can avoid facing the hard decisions associated with budgeting and doing without some things. Financial literacy and financial planning are a major issue, but I will leave that for another entry.

The issue for this message is when a popular but often harmful product raises to the level of being seriously curtailed or even banned outright. Payday loans are not an essential component of the marketplace. They are not allowed in 17 states, and people living in those states don’t seem horribly worse off than others. And some states have recently taken steps to limit their reach. Washington state just passed a restriction limiting people to no more than 8 draws per year.

So why aren’t they restricted or banned everywhere? What rule of thumb should we use to govern this decision? Is there a rule of thumb that can be used?

This is an important issue of regulation and governance.  How we work through this and get to an answer has important implications for how people live and their quality of life.

What do you think?